Chairman Shelby, Senator Sarbanes, and members of the Committee, I appreciate the opportunity to testify on the efforts of the Federal Deposit Insurance Corporation (FDIC) and the other federal regulatory agencies to respond to the impact of last year's devastating hurricanes on federally insured financial institutions and their customers in the Gulf Coast region.

In December, I traveled with FDIC staff to New Orleans and Mississippi. We met with local financial institutions, the state banking commissioners, and local community group leaders. As many have observed, it is difficult to appreciate the challenge confronting the Gulf Coast region until visiting the area and seeing first hand the scale of the damage. It is also impossible to visit the area and witness the determination of the local financial institutions and community leaders to rebuild their communities without feeling a renewed sense of the obligation of the FDIC and the other federal financial institution regulatory agencies (federal regulatory agencies) to do all we can to assist them in that effort.

My testimony will review the actions taken by the FDIC and the other federal regulatory agencies immediately following the storms to maintain confidence in the region's financial institutions, as well as interagency actions during the past six months to assist institutions and individuals affected by the hurricanes. I also will provide the FDIC's current assessment of the impact of the hurricanes on the condition of the federally insured financial institutions (financial institutions) in the region, and discuss outreach efforts planned in the near term.

At the outset, I want to point out that much of the work of the FDIC that I will describe today took place under former FDIC Chairman Donald Powell. He deserves great credit for his leadership of the FDIC, as well as for his current leadership as Federal Coordinator of Gulf Coast recovery efforts.

Federal Regulatory Agency Actions Following the Storm

When Hurricanes Katrina and Rita hit the Gulf Coast, they impacted the operations of at least 280 financial institutions, with 120 of these institutions headquartered in the 49 counties and parishes in Alabama, Louisiana, and Mississippi designated by the Federal Emergency Management Agency (FEMA) as eligible for individual and public assistance. Similar to other sectors of the Gulf Coast economy, financial institution facilities were destroyed, communication and data processing capabilities were disrupted, and financial institution employees saw their homes destroyed or inundated with flood waters.

In the aftermath of the storms, the FDIC along with the other state and federal regulatory agencies1 were committed to doing everything possible to preserve public confidence in the financial system and restore essential financial services. The agencies immediately began working with financial institutions to help them resume operations and with customers to communicate accurate information about their institutions and how they could get needed cash. The agencies' communication initiatives included contacting financial institutions, connecting customers to their institutions and coordinating supervisory oversight programs. To facilitate communication, the FDIC and the other federal regulatory agencies issued a number of press releases related to the Gulf Coast hurricane recovery. A list of these press releases is attached as Appendix A.

One of the first steps the FDIC took following Katrina's landfall was to create an internal FDIC Hurricane Task Force (Task Force) to coordinate the efforts of the units of the Corporation around the country and ensure prompt sharing of accurate information among staff, other regulators and consumers. The Task Force oversaw efforts to identify insured institutions experiencing service interruptions and assist those institutions to resume operations. The FDIC and other regulatory agencies immediately contacted management officials from the affected institutions to assess their operational status. The agencies quickly determined that some institutions were finding it difficult to operate branch offices and process electronic transactions, including automated teller machine (ATM) transactions. Fortunately, due to disaster preparedness procedures that all insured institutions are required to have in place, most institutions resumed operations within hours or a few days, using facilities that were not severely damaged, establishing temporary locations, or sharing facilities and even employees in order to provide services to areas where facilities were heavily damaged. For example, one institution shared a branch in the Jefferson Parish of New Orleans with five competitors to minimize disruptions to local customers.

The FDIC also worked to connect customers with their financial institutions while at the same time maintain public confidence in the financial industry. We immediately established a 24-hour consumer hotline to answer questions about contacting financial institutions, including questions about accessing accounts, replacing lost records, obtaining replacement ATM cards and processing direct deposit payments. The FDIC also updated its website with information about financial institutions operating in the affected areas along with customer service and branch contact information. The FDIC consistently emphasized that deposit insurance remained in force, financial institution customers' money was safe, cash was available, and consumers should be vigilant about the potential for theft and scams.

From the outset, the federal regulatory agencies recognized that we were dealing with extraordinary circumstances that required flexibility in the application of financial institution rules and regulations. Immediately after Katrina made landfall, the agencies urged financial institutions to be flexible with borrowers and others experiencing disruptions due to the storm. This was followed by a series of advisories providing guidance and information to financial institutions and their customers. During the past six months, the federal regulatory agencies have encouraged financial institutions to work with borrowers by deferring loan payments, extending repayment terms, restructuring existing loans, easing terms for new loans (including the ability to skip some payments), and providing short-term loans for living expenses until insurance proceeds are received. The agencies sponsored several public service announcements encouraging individuals affected by the storms to contact their lenders. Only through keeping the lines of communication open will financial institutions determine how they can help individuals recover from this natural disaster without impairing the individuals' credit ratings or weakening the financial viability of the institutions. A list of all FDIC Financial Institution Letters providing advisory guidance regarding the Gulf Coast hurricanes is attached as Appendix B.

In addition, on September 19, 2005, the Federal Financial Institutions Examination Council (FFIEC) formed the Katrina Working Group (Working Group). Made up of senior supervisory staff from all FFIEC member agencies2 and the Mississippi Banking Commissioner,3 the Working Group continues to address supervisory policy issues emerging from the disaster. The Working Group established a frequently-asked questions board on the FFIEC website and directed the publication of examiner guidance to ensure consistent treatment of affected institutions, regardless of charter. The Working Group continues to meet with key financial institution organizations and consumer groups to strengthen communication among all affected parties. This group also is identifying and assessing the flexibilities available to the FDIC and other federal regulatory agencies to assist financial institutions affected by the disaster. Where possible, the federal regulatory agencies have modified regulatory requirements and procedures to facilitate the recovery of institutions affected by the storms. For example, the agencies simplified several application and filing requirements including branch closings and relocations.

Impact of the Hurricanes on Financial Institutions

The economic toll of Hurricanes Katrina and Rita is unprecedented in U.S. history and the recovery will take an extended time. Much of the damage was caused by flood or storm surge, and the greatest economic losses are centered in Louisiana and Mississippi.

Historically, no financial institutions are known to have failed as a result of past natural disasters. In fact, community financial institutions traditionally have played a critical role serving the areas most severely affected by the hurricanes. However, due to the scale of destruction left by these storms, it remains difficult to determine the applicability of experiences from previous disasters to the current situation.

The 120 insured institutions headquartered in the 49 designated disaster counties and parishes are relatively small community financial institutions. According to financial data for these institutions, about three-fourths of them hold less than $250 million in assets, and only five have assets greater than $1 billion. Eighty seven of these 120 institutions obtain 100 percent of their deposits within the disaster counties, and only five receive more than half their deposits outside the area. These institutions have a long history of lending in their local communities and are heavily invested in local real estate with residential and commercial real estate loans representing more than 60 percent of their combined loan portfolios. As a result, not only does the local population rely heavily on these institutions, but the prospects of these 120 institutions, 94 located in Louisiana, 17 in Mississippi, and 9 in Alabama, are closely linked to the health and vitality of the local economies.4

Although most of these 120 institutions were financially strong before the hurricanes, financial results to date do not yet provide a clear picture of the full effects of the storms since many of the institutions in the area continue to extend loan deferrals and are still communicating with customers to develop long-term rebuilding plans. Nevertheless, recent financial results provide some indications of how the institutions may be reacting and adjusting to the effects of the hurricanes. Post-hurricane data reveal that a number of institutions operating in areas hit hard by Katrina are moving fairly aggressively to build loan loss allowances and experienced a pick-up in charge-off rates. Consistent with this, 20 institutions reported net operating losses for the fourth quarter. Despite these losses, all institutions remained "well capitalized" or "adequately capitalized," reflecting the strong capital positions of most institutions prior to the hurricanes. Liquidity for most of the institutions also remains strong.

Looking ahead, there is considerable uncertainty regarding the prospects for the financial institutions most directly affected by the hurricanes. Over the medium-term horizon, the greatest source of uncertainty and concern is the effect of the hurricanes on credit quality. Over the longer-term horizon, the prospects for these financial institutions will be determined largely by the economic prospects of the communities they serve.

With respect to credit quality, the outlook for each institution will depend on a variety of currently unknown factors, including reimbursement amounts and timing of insurance proceeds, borrowers' repayment capability, collateral protection, and the availability of financial assistance programs. The FDIC is utilizing both supervisory outreach and data analysis to assess the extent to which insured institutions in the region may experience medium- to long-term credit quality and profitability issues.

Our supervisory outreach started immediately after Hurricane Katrina. The FDIC and other agencies contacted all 120 insured institutions previously mentioned. Among the subjects we discussed with the institutions' management were the degree to which there was a significant decline in population in the institutions' trade area; notable personnel shortages caused by employee relocations; extensive commercial or residential lending activities within designated disaster areas; and substantial structural or contamination damage to financial institution facilities. This helped us gain some basic information to identify which financial institutions should receive the most supervisory attention.

During December 2005, examiners from the FDIC and the other agencies visited many of these insured institutions. At these meetings, the agencies asked bank management more detailed questions related to the degree to which borrowers in the affected area had been contacted, to what extent they were covered by insurance, and to what extent they knew if their customers were capable of repaying their loans. Beginning in January, the agencies resumed their comprehensive examination programs that were suspended at the time of the storms.

In addition to this type of supervisory analysis, the FDIC is conducting off-site research utilizing mapping tools and data from a variety of sources to provide us with additional information. This analysis involves using data from FEMA on damage assessments and flood insurance coverage, along with data on financial institution loan levels and deposits. We are working with other government entities and organizations to research sources of information that will help identify institutions with significant loan exposures in areas of the Gulf Coast most severely damaged by the hurricanes. We then use off-site stress testing tools to determine how vulnerable these institutions may be to medium- to longer-term credit weakness under various scenarios. Our analysis is ongoing, and we plan to share the analysis with the insured institutions.

As a result of these efforts we have narrowed our focus from the initial group of 120 institutions to a small group of institutions, which we will continue to monitor the most closely. As suggested earlier, the prospects for the financial institutions most affected will depend in large measure on the efforts underway to rebuild and revitalize the communities these institutions serve.

Next Steps

In addition to their regular supervisory activities, the federal regulatory agencies are hosting a forum in New Orleans on March 2 and 3. The Future of Banking on the Gulf Coast: Helping Banks and Thrifts to Rebuild Communities will focus on short- and long-term challenges facing banks and thrifts operating in areas affected by hurricanes and ways to help these institutions rebuild their communities. The agencies are inviting to this forum executives from all the community financial institutions in the region, the larger regional financial institutions, as well as a number of large institutions from around the country with operations that are national in scope. State banking supervisors and other federal government agencies will also participate in the forum.

The forum will promote an exchange among Gulf Coast community financial institutions, national and regional institutions, and federal agencies involved in the rebuilding effort. Executives from community financial institutions will have an opportunity to discuss their experiences, the challenges they face, and the ways that banking and governmental organizations can collaborate to address these challenges. Executive officers of larger financial institutions from across the region and the country will discuss ways they may be able to help local financial institutions meet the needs of consumers and businesses. Possible support that large institutions may be able to provide community institutions include operational assistance such as accounting or computer programming, loan participations and purchases, and non-controlling capital investments. They will have the opportunity to explore with the community financial institutions potential partnerships to revitalize and stabilize damaged communities through the financing of housing and business development, infrastructure improvements, and community services.

To ensure that these initiatives continue, one outcome of the forum will be to establish a task force or working group comprised of representatives of local community financial institutions and larger regional and national financial institutions to facilitate ongoing working partnerships.

Conclusion

Since the hurricanes first struck the Gulf Coast area last summer, the resiliency of the local community financial institutions most impacted by the storms has been impressive. The federal regulatory agencies are fully engaged with financial institutions in the region to ensure that the adverse impact on the industry and their customers is minimized to the extent possible. However, additional challenges for community financial institutions in the disaster area may lie ahead. Given the many uncertainties at this time, it is too early to determine what impact the disaster will have on the long-term condition of these institutions. We will continue to monitor closely the condition of the affected financial institutions and will work closely with their management so that we can appropriately address the challenges that will likely arise in the future as this region recovers.